Breaking The Bernanke Code: Gold Investments And A 50% Drop In Stocks

Wed, Jul 18, 2012

Gold Investments Stock Drop

Bernanke Code On Drop in StocksIf you’ve ever doubted whether gold prices will come back, you usually don’t have to wait long for Fed Chairman Bernanke to virtually confirm the gold bull market has many more legs left to go.

Yesterday Bernanke testified before Congress. In his statement he diagnosed the most obvious economic problems. And he warned recovery from high unemployment will be “frustratingly slow.”

Nothing new. No surprises.

Bernanke did, however, tip us off to what’s to come in the next few months. And that will prove absolutely critical to gold, stocks, and most other investment classes. Here’s why.

The Chairman said the Fed will take action at appropriate times.

That vague statement simply means the following action and timing:

Action: Money Printing -“The logical range includes different types of purchase programs. That could include Treasuries or include Treasuries and mortgage-backed securities. Those are the two things we’re allowed to buy,”

Timing: After the election – handing money to banks isn’t politically popular. It’s safe to expect any significant asset purchases handing money to banks will be put off until after the upcoming elections, but not too far after that

The net results of all this action – when it comes – will be more of the some. Continued high unemployment. More debt. More currency devalution (read: higher gas and food prices). More economic malaise.  And lower interest rates than the current record lows.

The final element – lower interest rates – is critical to investors right now.

As we discussed in How to Make a Fortune Investing in Gold, interest rates are the key to Gold Prices. Specifically, real (after inflation) interest rates are the main determinant of the Market Price For Gold.

Rest assured, when real interest rates pushed down even more low by the Federal Reserve’s buying U.S. Treasury debt and asset-backed securities, gold prices will be pushed passed old highs and beyond.

That’s great news for gold investors. But it’s not really good news for stock investors.

Recent research from the authors of Valuing Wall Street further prove the Fed’s low interest rate policies are pushing stock prices higher.

Bernanke Code On Gold Investments

Consider US Stocks Are Overpriced by 50%:

U.S. stocks are overpriced by 50 percent but corporate buying is keeping them up, at least until there is a decline in the U.S. fiscal deficit, Andrew Smithers, the author of the book “Valuing Wall Street: Protecting Wealth in Turbulent Markets” wrote in a recent research note.

Other analysts, such as Goldman Sachs’ Jim O’Neill, said they were optimistic about the prospects for stock markets as the world economy was on the mend due to good data on the U.S. economy.

“U.S. equities are around 50 percent overpriced but, absent unexpected shocks, are being kept up by corporate buying. This should continue until corporate cash flow falls, which is likely to coincide with a decline in the fiscal deficit,” Smithers wrote in his research.

Smithers is largely right too. Without near zero interest rates pushing investors up the risk spectrum into riskier assets like stocks, high yield bonds, and other risky assets just to attempt to eke out high single digit returns, stock prices would collapse.

In the case presented above, the Dow would fall to around 8,000. The S&P 500 would be hanging around the 900.

Both situations area more than plausible if the Fed pulled the zero interest rate rug out from stocks.

Now, I’m sure you’re wondering, how would falling stock prices be good for stock investors?

The answer is simple. As contrarian investors, we pick our spots. We’re willing to wait on the sidelines until the right assets are available. Right now stocks in general are not at good prices. But if the markets were to shed a third of their value, there would be many, many more compelling values.

In the end, the policies will not produce anything close to a recovery. They’ll actually push the real correction and genuine recovery off even more. But there will be plenty of opportunities in the interim period. One of the best opportunities will be in gold investments.

For More Information: Visit ContrarianInsights.com

Good investing,

 

Andrew Mickey
Executive Editor, Contrarian Insights

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